Obama's Economic Policy is a Recipe for Lower Living Standards

Any economic recovery under Obama will be short-lived. His supporters assert
that his utterly reckless spending proposals are necessary for a sustained
recovery. As evidence they state that statistics prove that consumer spending
has led every US economic recovery, at least since WW II. But this merely demonstrates
that statistics generally prove nothing in themselves. Statistics need to be
interpreted, which means that one needs a theory. It follows that applying
the wrong theory will very likely render a wrong answer, particularly if the
statistics are incomplete.

Those economists arguing for a consumption-led recovery genuinely believe
that consumer spending accounts for about two-third of total economic activity.
They are gravely mistaken. Their error is to omit spending on intermediary
goods, those goods that pass through the capital structure, which in turn consists
of incredibly complex stages of production. This omission is defended on the
curious grounds of double counting. To be blunt, it's ridiculous account for
fixed investments, i.e., durable goods, while ignoring 'non-durable' capital
goods merely because they are unfinished.

What these economists do not realise is that these particular goods are also
savings. If spending on these goods were to contract then living standards
would fall. Therefore, only when we take into account intermediary spending
does a true picture of actual gross spending emerge. Once this is done consumption
as a proportion of total spending drops to 30-odd per cent. This completely
changes the perspective on economic recovery.

By taking into account total spending we will find that recoveries were not
led by consumption at all. In fact, I would bet that spending by manufacturing
was the leading indicator. But as I have pointed out, national accounting methods
omit this vital factor. (This approach suggests that the 6.1 per cent contraction
in first quarter understates the drop in economic activity which may in fact
be about 12 per cent or more).

Let us assume, as our baffled commentators do, that consumption will increase
economic activity. Now what would this really mean for the US economy? Producers,
in case anyone hasn't noticed, direct production and investment in response
to changes in demand. It ought to be clear that if consumption is to lead recovery
the effect will be to direct resources from the higher stages of production
to the lower stages, those closest to the point of consumption.

The term for this is capital consumption. In English so plain that even a
post-Keynesian can understand it, stimulating the economy by continually promoting
consumer spending will, at the very best, retard economic growth or, at worst,
even shorten the capital structure and hence eventually lower living standards.
The hope of the more intelligent economic observers is that current rates will
stimulate manufacturing first leading to increased investment. (This thinking
is usually based on the fallacious accelerator concept). However, there are
several serious obstacles to this rather Pollyanna view:

1. There is the problem of serious 'excess capacity', which really means malinvestments
that have yet to be liquidated.

2. The effect of artificially lowering rates before all of the boom-created "imbalances" have
been eliminated will, if the stimulus is successful, only pile more malinvestments
on top of the surviving ones which will then have to be liquidated at a later
date.

3. If the malinvestments/imbalances are particularly severe rate cuts might
prove ineffectual in the short-term.

4. As I have pointed out more than once, artificially cutting rates is what
brought about the boom-bust situation in the first place. Greed had absolutely
nothing to do with it.

The US economy also has the misfortune of facing two enormous and politically
created problems: Bernanke and Obama. Bernanke is doing what he can to flood
the economy with money. This can only lead to surging inflation, rising interest
rates, current account problems and depreciation. Obama's spending, taxing,
energy restrictions and other regulatory policies amount to an assault on capital
accumulation. Unless he abandons these destructive policies any inflationary
recovery engineered by Bernanke will be short-lived and possibly followed by
a distinct fall in living standards.